Robert A. Martin, Empire Programs, Inc. v. U.S. Sec.

• Decision Date: 30 October 2013
• Docket Number: Docket No. 11–3011.
• Citation: 734 F.3d 169
• Parties: Robert A. MARTIN, Empire Programs, Inc., Petitioners, v. UNITED STATES SECURITIES AND EXCHANGE COMMISSION, Respondent.
• Court: U.S. Court of Appeals — Second Circuit

734 F.3d 169

Robert A. MARTIN, Empire Programs, Inc., Petitioners,

v.UNITED STATES SECURITIES AND EXCHANGE COMMISSION, Respondent.

Docket No. 11–3011.

United States Court of Appeals,Second Circuit.

Argued: April 11, 2013.

Decided: Oct. 30, 2013.

Allan H. Carlin, Law Office of Allan H. Carlin, New York, NY, for Petitioners.

Jeffrey A. Berger, Senior Counsel (Luis de la Torre, Senior Litigation Counsel, Jacob H. Stillman, Solicitor, Michael A. Conley, Deputy General Counsel, on the brief), Securities and Exchange Commission, Washington, DC, for Respondent.

Before: KATZMANN, Chief Judge, KEARSE, and DRONEY, Circuit Judges.

PER CURIAM:

In 2004, the Securities and Exchange Commission (“SEC”) settled an enforcement action against seven firms that executed trading orders on the New York Stock Exchange (“NYSE”). Pursuant to the settlement orders, the SEC placed the money obtained as a result of the enforcement actions into funds for distribution to injured customers. After extensive efforts to identify and compensate injured customers, the SEC ordered that the remaining funds be disbursed to the United States Treasury. Seeking to invoke this Court's statutory jurisdiction under 15 U.S.C. § 78y to review certain orders of the SEC, Petitioners challenge the disbursement order. We deny the petition on the ground that the Petitioners lack Article III standing to mount their challenge to the order.

BACKGROUND

Empire Programs, Inc., and its president, Robert A. Martin (collectively, “Empire”) petition for review of a May 26, 2011 order (the “Order”) of the SEC directing the transfer to the United States Treasury of the balance remaining in the distributive funds (the “Fair Funds”) ¹ that were established in accordance with settlement agreements that the SEC entered with Bear Wagner Specialists LLC; Fleet Specialist, Inc.; LaBranche & Co. LLC; Spear, Leeds & Kellogg Specialists LLC; Van der Moolen Specialists USA, LLC; Performance Specialist Group LLC; and SIG Specialists, Inc. (collectively, the “Specialist Firms”). Empire asserts that the Order: (1) violates Section 308(a) of the Sarbanes–Oxley Act of 2002, 15 U.S.C. § 7246(a), regarding the use of civil penalties for the benefit of injured investors; (2) contradicts the terms of the settlement agreements; and (3) is barred by SEC Rule 1102(b), 17 C.F.R. § 201.1102(b).

During the relevant time period, each security on the NYSE was assigned to one of the Specialist Firms. Specialist Firms could trade in their assigned securities as either agents or principals. When acting as an agent, a Specialist Firm would facilitate transactions by investors. To purchase or sell a security, investors were required to present their order to that security's Specialist Firm. The Specialist Firm would then use a computerized “display book” listing investors' orders to execute transactions. Specialist Firms were required to quote prices that accurately reflected the prevailing market conditions. When acting as an agent, Specialist Firms were required to match the orders of buyers and sellers, and thus ensure the execution of trades at the best available price. Specialist Firms could also act as a principal, trading on their own accounts, but only when it was necessary to maintain a fair and orderly market. See In re NYSE Specialists Sec. Litig., 503 F.3d 89, 92 (2d Cir.2007).

I. SEC Enforcement Actions and Settlements

In 2004, the SEC alleged that the Specialist Firms had used two manipulative tactics: “interpositioning” and “trading ahead.” Both interpositioning and trading ahead involve a Specialist Firm trading as a principal even though such trading is unnecessary to maintain a fair and orderly market because there are customers who are prepared to trade with each other. “Interpositioning” refers to the practice of capturing the spread between a buy order and sell order. For example, if one customer has placed an order indicating her willingness to sell a security for $20.00, and another customer has placed an order indicating his willingness to buy the security for $20.01, the Specialist Firm should see both orders on the display book for the security and match them, allowing the former customer to sell to the latter at a price of either $20.00 or $20.01. The Specialist Firm could engage in “interpositioning” by purchasing the security for its own account for $20.00 from the former customer and selling the security from its own account to the latter customer for $20.01. By standing between the two customers, the Specialist Firm would reap a $0.01 profit on the trade.

“Trading ahead” refers to the practice of executing proprietary trades ahead of the trades ordered by customers. For example, the Specialist Firm might use its unique access to customers' orders to determine whether the price of a security is trending up or down. If the Specialist Firm found that the price of the security would fall, the Specialist Firm could use this knowledge to reap a profit by “trading ahead” of the sell orders. It would do this by failing to match the buy and sell orders in the display book, and instead satisfying the buy orders by selling the security out of the Specialist Firm's own inventory. The Specialist Firm would then wait for the security's price to fall before replenishing its inventory by satisfying the sell orders. This would allow the Specialist Firm to transfer the negative impact of the decline from itself to the customers who had sought to sell. Similarly, if the Specialist Firm found that the price of the security would rise, it could “trade ahead” of the customers who had sought to buy by purchasing for its own account, waiting for the price increase, then satisfying the customer buy orders by selling from its own inventory. This would allow the Specialist Firm to capture a price increase that would otherwise accrue to the customers who had sought to buy.

The SEC alleged that the Specialist Firms had engaged in unlawful interpositioning or trading ahead in a specific set of trades. In order to identify these trades, the SEC used an algorithm that identified situations in which a Specialist Firm had traded for its own account even though a buy order and a matching sell order appeared on the display book. However, the SEC recognized that its algorithm could generate false positives. A system error or a delay could prevent a Specialist Firm from recognizing the match, or the Specialist Firm might have orally executed the trade involving the matching orders. In order to screen out false positives to match orders, the SEC excluded instances in which the orders appeared on the display book for less than ten seconds.

The trades in which matching orders sat unexecuted for ten seconds or more (the “Covered Transactions”) were subject to the SEC's enforcement action against the Specialist Firms. In the aggregate, these 2.661 million transactions resulted in profits to the Specialist Firms of $157.8 million. Through settlements with the SEC in March and July of 2004 (the “Settlement Orders”), the Specialist Firms agreed to disgorge these $157.8 million in profits, and to pay additional civil penalties of $89.4 million. The Settlement Orders also provided that the disgorgement and civil penalties would be deposited in Fair Funds for distribution according to a plan drawn up by an administrator. Each Settlement Order provided that the Fair Fund it created would be used “(i) to pay for the costs of administering the [distribution plan]; (ii) to reimburse injured customersfor their loss; and (iii) pay prejudgment interest to injured customers. The [SEC] shall determine the appropriate use for the benefit of investors of any funds left in the Distribution Fund following such payments. Under no circumstances shall any part of the [Fair Fund] be returned to [the Specialist Firms].”

The SEC established the Fair Funds in October of 2004, and appointed the firm of Heffler, Radetich & Saitta L.L.P. (“Heffler”) as administrator. In order to distribute funds to the injured customers, Heffler began tracing the Covered Transactions by working with clearing firms. Clearing firms process the final stages of a securities transaction, including delivery. In many instances, the clearing firm could only identify the brokers involved in a transaction, and many of the brokers involved had either destroyed their records or ceased to exist. At the end of this process, Heffler was able to match customers for 77.6% of the Covered Transactions. $159.8 million remained in the Fair Funds because Heffler was unable to match a customer to the remaining 22.4% of the Covered Transactions, and because many of the customers identified either could not be located or failed to cash checks mailed to them.

Empire Programs, Inc. was identified as a customer in certain Covered Transactions, and has received a distribution compensating it for losses it suffered in connection with those transactions.

II. Private Class Action

On October 17, 2003, several private parties including Empire filed class actions against the Specialist Firms. These class actions included similar allegations of interpositioning and trading ahead, but on a different set of trades. The suits were ultimately consolidated in the United States District Court for the Southern District of New York. In re NYSE Specialists Sec. Litig., 503 F.3d at 95. The defendant Specialist Firms resisted the private litigation by arguing that the relief sought was already covered by the disgorgements obtained by the SEC. The district court rejected this argument, holding that “although the Amended Complaint” in the private action “alleges the same wrongdoing on the part of the Specialist Firms as that alleged in the SEC investigation, the instant suit is not duplicative because ... it only provides for relief for those violative transactions not yet” covered by the SEC enforcement action. In re NYSE Specialists Sec. Litig., 260 F.R.D. 55, 81 (S.D.N.Y.2009). The private...